One way to deal with unexpected expenses, pay for a major purchase, or get money you need for another purpose is to take out a personal loan. While many personal loans are straightforward and fairly simple, it’s important to know exactly what you’re getting yourself into before you sign on the dotted line.
It is possible to make a mistake when getting a personal loan, and some mistakes can cost you time, money and opportunities when it’s too late to do anything about them. Here are some of the most common mistakes people make when getting a personal loan and how you can avoid them.
Mistake #1: Getting a Loan You Don’t Really Need
While personal loans can often be advantageous and useful, it’s never a wise idea to take out a loan you don’t really need. Some people take out loans to pay off medical bills, for instance, when you can usually work out a payment plan with the hospital or doctor’s office that will enable you to avoid all fees and interest.
In other cases, the loan is for an item or items that could be purchased later after you have saved up the money you need. Learning the difference between a need and a want can prevent countless financial mistakes and keep you out of debt in many cases.
Mistake #2: Getting the Wrong Kind of Loan
In some cases, you may want to get a personal loan when there is a better option for how to borrow the money you need. Instead of getting a loan to consolidate credit card debt, for instance, you may be able to transfer all the balances to one card at 0% interest for a number of months, giving you time to pay off the balance without accruing any interest.
For some particular situations, a different type of loan could offer a much lower interest rate or protect you from personal liability. Student loans usually offer lower rates, even when it is the parent getting the loan, and many home projects can be financed through a retailer at no interest for the first 12 to 24 months.
Home Depot, for instance, offers roof, kitchen remodeling, HVAC, and fencing projects through their store credit card with a period of interest-free financing. Another option for home projects is to get a home equity loan, which often carries a lower interest rate than a personal loan.
Mistake #3: Not Doing Research
Different banks will offer different terms and interest rates for personal loans, so shopping around can save you a significant amount of money on a loan. The best personal loans will have a competitive interest rate and origination fee, will not precompute the interest (which is more expensive if you plan to pay it off early) and will not penalize you (charge more) for paying off the loan early.
Looking at the APR of the loan rather than the interest rate can be a good comparison tool, since it includes fees into the overall rate you are paying (assuming you don’t pay the loan off early). Reading the fine print and listening closely as the bank representative explains the terms will help you understand all the costs associated with the loan, including items like bundled insurance, which you usually don’t need and which only add to the total cost of the loan.
Research into the particulars of the loan is important, but it’s also important to research the bank offering the loan as well. Looking at reviews can help you determine what customer service will be like and whether previous customers have run into any problems with that particular institution.
Mistake #4: Credit Score Ignorance
Not knowing your credit score when you apply for a loan can get your application rejected; it can also lead to your score going even lower since each loan application will bring your score down slightly. It’s always a good idea to check your credit score before applying for a personal loan, since your score will determine not only whether you get the loan but also the interest rate you pay.
Checking your credit score will not have the same lowering effect that applying for a loan has, and it can be as easy as looking at credit card statements in some cases, as many credit card issuers now offer FICO scores free to customers. Be sure to get the numbers from all three major credit bureaus–Experian, Equifax and TransUnion–for the most accurate view of your credit score.
Mistake #5: Lying on an Application
It is a criminal act to knowingly lie on a loan application. Not only will the loan be rejected if a dishonesty is discovered, you can also face criminal charges and even jail time for lying about your income, expenses, or any other information asked about on the loan.
Mistake #6: Not Making Needed Financial Changes
If you get the loan, making loan payments will be an added expense that you need to figure out how to cover, or you may end up in a cycle of borrowing more money to cover the shortfall caused by the loan payment. Especially if the loan is for the purpose of consolidating existing debt, there may be a temptation to continue the pattern of overspending that led to the debt in the first place.
Before you sign an agreement to make loan payments, you should have a plan in place for how those payments will fit into your budget, whether that means cutting some unnecessary expenses or finding a way to earn extra income during the period of the loan.
Being an informed consumer is the best way to hold onto as much of your money as possible. A personal loan can be a good tool to help you reach financial goals, and knowing about all the benefits and possible pitfalls of a personal loan can help you make an informed decision about what is best for your financial needs.
Sign up for our newsletter now!